Retailers and stock investors have happy holidays

NASDAQ market posts highest return in century; other markets post steady gains
The composite stock market indices show a very good year. The NASDAQ composite was the obvious winner with a whopping 85.6 percent spurt - the largest annual gain for any index this century. But the more established indices such as the Dow and the S&P posted solid performances this year (and for the 1990s as a whole). The Dow Jones Industrials increased 25.2 percent; the S&P 500 rose 19.5 percent; and even the laggard Russell 2000 gained 19.6 percent with a surprising spurt in the past couple of days.

Yet, it was a story of two worlds. The biggest gainers by far were the technology sector. Last week the Wall Street Journal reported that nearly half of the stocks in the NASDAQ composite were down from a year ago. Today, CNBC noted that more than half were down and the top five companies in this market cap weighted index accounted for 25 percent of the total gain. The biggest losers were banks and transportation stocks in this composite index. Even the Russell 2000 was spurred at year's end by the tech sector. Each summer the Russell universe is redefined to remove stocks that no longer fit the criteria. Last July, the tech sector account for 15 percent of this index, by the end of December, it had become the largest sector with nearly 21 percent of the index in market capitalization.

How do investors feel going into the New Year? Most remain bullish, but are pointing to slower gains in 2000. Even market guru Abby Joseph Cohen recently stated that she now feels the stock market is fairly valued in terms of the S&P 500.

Rising rate environment
In contrast to 1998, when interest rates were low and falling, Treasury yields ended the year at their highs. Strong economic activity coupled with three rate hikes by the Federal Reserve boosted yields at the short end and the long end of the maturity spectrum. In the second half of December, thin holiday trading exacerbated market movements. Nevertheless, a spate of healthy economic indicators and holiday cash registers brimming with cash helped to generate more anxiety over potential additional rate hikes early in 2000. As a result, Treasury yields were generally near their highs at yearend. Most bond investors are expected the Fed to announce a 25 basis point increase in the federal funds rate target at the next FOMC meeting in early February.

Commodity Markets
Gold prices ranged from a low of $284 per ounce to a high of $308 per ounce in 1998. When 1999 began, gold prices were pretty stable in the first part of the year. Gold prices fluctuated dramatically between May and October and then pretty much ended the year nearly where it began.

Gold is a special metal. It can be used in production, as ornament, as an inflation hedge, and as a reserve currency. In times of war or uncertainty, gold usually is a big winner. Despite its inflation-hedge status, gold prices have not kept up with inflation in the 1990s - and gold was generally a poor investment. Central banks around the world hold gold in reserve. Several central banks, as well as the IMF (International Monetary Fund), announced their decisions to sell a good portion of these reserves. The Bank of England carried through several gold sales this past year.

Gold bugs in the United States still believe that gold prices signal inflation - or deflation - as the case may be despite the fact that gold sales would have a dampening effect on gold prices. After all is said and done, gold prices aren't giving any clear signals about the direction of the economy or inflation for 2000.

Oil prices staged a dramatic upturn in 1999 after hitting low levels below $12.00 per barrel in late January. OPEC countries set production schedules that so far are on track. As a result, prices of West Texas Crude remained in a tight range of $25 to $27 dollars per barrel in the last month of 1999. Most analysts are predicting that prices will eventually fall back to an $18 to $24 per barrel range. OPEC members often have an incentive to produce more than their scheduled allotment as prices increase. However, improved economies in Europe and Asia along with a robust U.S. market could keep prices near current levels for a bit longer - particularly with a cold winter.

Currency Markets
The euro began with a lot of fanfare exactly one year ago today. It was a rocky road for this new currency. The euro mostly declined against the dollar. By sheer luck, the euro managed to close just above parity with the dollar. In contrast, the dollar declined against the yen. The Japanese have tried to intervene, but to no avail. Given the mess in the Japanese economy, one has to wonder about the strength of the yen.

Economic news shuffles in quietly during holiday weeks
A few economic indicators were reported in the past two weeks. News was generally mixed. No question that the consumer sector maintained its euphoric atmosphere. Weekly chain store sales indices reported strong holiday sales. Anecdotal evidence also pointed to the crowded malls. Sharp increases in Internet sales were also noted from a year ago, but these still make up a small portion of total retail spending.

Personal income and outlays for November showed healthy gains during the bond. Yearly gains in consumption continue to outpace year-over-year increases in disposable income. As a result, the personal savings rate remains anemic.

Clearly, the level of consumer optimism is at extraordinary high levels. This comes from low inflation coupled with healthy labor markets. A skyrocketing stock market doesn't hurt. No wonder consumers are happy to be spending and don't feel the urge to save much of their income as their wealth increases in line with stock prices.

The housing market is usually a leading indicator of economic activity. Federal Reserve officials expected that the higher interest rates would translate into higher mortgage rates and curtail housing demand. Existing home sales jumped in November, but the trend is lower from the summer months. When housing demand moderates, spending on consumer durables such as furniture and appliances is also dampened.

Old News on GDP growth
The Commerce Department reported its final revision for third quarter GDP. Growth was revised higher and didn't change anyone's outlook for the near term. The chart below shows that even after taking into account the slowdown in the second quarter, there is no question that 1999 economic growth will be robust.

Generally, strong economic activity means healthy revenues and profits - as long as corporations don't have to pay workers higher compensation costs. Thus far, compensation costs are contained - and employers are finding new creative ways to keep their labor and production costs subdued. As a result, after-tax corporate profits are rebounding in 1999 after a long sluggish period in 1998. While the stock market doesn't necessarily move in tandem with profits on a quarterly basis, certainly the two series are related. The recent downturn in the rate of growth in the Dow Jones Industrials doesn't mean that profits will turn lower. Perhaps, they will grow more slowly.

Manufacturing sector growing albeit at a slower rate than the rest of the economy
The manufacturing sector has turned around in the past six months. New orders for durable goods are once again posting healthy yearly gains. Most economists - and that includes Federal Reserve chairman Alan Greenspan - prefer the unfilled order series. Note the upward trend in unfilled orders. This could signal some solid production growth in early 2000.

Chicago's purchasing managers' index, which is considered a precursor for the NAPM Survey, decreased modestly in December. Yet, the level of the business barometer remained well above the 50 percent mark and means that this sector is still expanding.

THE BOTTOM LINE
Economic news was mixed, but the preponderance of economic indicators revealed that growth continued at a robust pace in November and early December. Economists are predicting that fourth quarter GDP will expand at about a 5 percent rate. This is not the kind of slowdown Fed officials are anticipating. Even though many policymakers have revised up their views on the "sustainable" long-term rate of growth, it is a far cry from the current pace.

As financial market participants and policymakers come back to work after their holiday break, they will be closely monitoring economic news to see if more interest rate hikes will be necessary in February or March to curtail our booming economy. It is helpful that the first week of the new century brings us the December employment report.

Looking Ahead: Week of January 3 to January 7
We use the Market News Service survey of forecasts to describe the market consensus.

Monday
Market participants are looking for the NAPM Survey to remain nearly unchanged in December at 56 (compared with 56.2 in November.) The PMAC Survey, which is often a precursor of the national index decreased modestly in December. Bond investors, in particular, will monitor the prices paid component, which stood at 65.3 in November. The Chicago prices paid index had declined five points.

Tuesday
Construction expenditures are expected to rise 0.4 percent in November, rising at nearly the same meager rate as the previous month. This would be viewed as an improvement from the slowdown experienced at mid-year.

Motor vehicle sales will start dribbling out in bits and pieces on Tuesday, although the total won't be available until later in the week. Economists are predicting cars were sold at a 7.1 million-unit rate in December and light trucks were sold at a 7.4 million unit pace. Overall, this would be stronger than November sales.

Wednesday
Economists are predicting that factory orders will post a gain of 0.9 percent in November after decreasing 0.2 percent the previous month. This reflects a rise in durable goods and a healthy boost in orders for semiconductors.

Thursday
Market participants are expecting new jobless claims to increase 11,000 in the week ended January 1 from last week's 274,000. Claims have trended down to a lower range in the past couple of months. Jobless claims tend to be more volatile during holiday periods. Yet, the reduction in claims could also indicate that the strong demand for labor has not diminished lately.

Economists predict that new home sales will record a 5.2 percent drop in November to a 935,000-unit rate. This is in contrast to existing home sales activity for November - which posted a healthy gain for the month. This could be a correction to last month's unusual spurt.

Friday
Market participants expect nonfarm payrolls to post a 240,000 gain in December, about in line with November's 234,000 increase. At the same time, the civilian unemployment rate is expected to remain unchanged at 4.1 percent. The Labor Department regularly revises its seasonal factors this time of year, so you may see some minor revisions among monthly unemployment rates.

Average hourly earnings are expected to rise 0.4 percent. If this forecast were realized, it would be a 3.7 percent gain from a year ago. It would also mark the eleventh straight yearly rise under 4 percent for this series. The average workweek should remain unchanged at 34.6 hours.

Consumer installment credit is expected to rise at a $7 billion unit rate in November after a more modest $4.2 billion gain in October. This reflects healthy retail spending.